Congress Debates Financial Regulation Reform

by Mike Godfrey, Tax-News.com, Washington

03 May 2010

Following three days of blocking any discussion on the bill presented by the Democrat chairman of the Senate Committee on Banking, Housing, and Urban Affairs, Chris Dodd, the Republican Party in the Senate has changed its tactics and allowed the debate to begin on putting together significant reforms to the regulation of the US financial system.

The negotiations on the bill centre on what reforms are required to prevent another systemic financial crisis in the future, and how control and accountability can be enforced on the financial system, particularly the major institutions on Wall Street.

Senator Dodd’s bill therefore covers a wide range of subjects. For example, it would introduce a new independent watchdog to protect consumers, which would be housed at the Federal Reserve and would have the authority to ensure American consumers get clear information on financial products.

It would address future systemic risks and end the concept of ‘too big to fail’ by creating a Financial Stability Oversight Council to identify and make recommendations to the Federal Reserve for increasingly strict rules on banks with regards to capital, leverage, liquidity and risk management, with significant requirements on those that pose risks to the financial system.

The bill would also look to improve on-going bank regulation. In particular, the Federal Reserve would regulate banking groups with assets of over USD50bn, the aim being that its capital market experience will enhance supervision in this area. Regulatory gaps would be closed by regulating over-the-counter derivatives so that they are brought within the system. There would be a requirement for the central clearing and exchange trading of derivatives, and the bill provides a role for both regulators and clearing houses to determine which contracts should be cleared.

In addition, hedge funds that manage over USD100m of investments would be required to register as investment advisers and to disclose information about their trades and portfolios. This would enable regulators to monitor systemic risk and to protect investors. In addition, financial institutions that sell products like mortgage-backed securities would be required to retain at least 5% of the credit risk.

Finally, the bill would give shareholders a vote on executive pay, as well as further powers in nominating directors. There would be compensation committees including only independent directors, and a requirement that companies set policies to take back executive compensation if it was based on inaccurate financial statements.

The concession by the Democrats that appeared to break the deadlock over the bill was to remove reference to a USD50bn fund that would have been provided, through contributions by the banking system, for the break-up of failed institutions. It has been re-emphasized that no public funds could be used in the future to bail out any bank.

Various amendments are now being offered by both sides, particularly with regard to banks being obliged to ring-fence their derivative operations away from their normal banking business, or even being required to spin-off those operations entirely.

President Obama has welcomed the fact that the Senate measures are now being debated. It is generally expected that, while it may be some time before a bill is passed, public support on strengthening banking regulation will ensure that some action is finally approved by Congress.

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